Category Archives: Automatic Stay

What Affect Does a Bankruptcy Filing Have Upon an Illinois Real Estate Tax Sale?

The date a bankruptcy case is filed determines a lot.  The filing of the bankruptcy case triggers the implementation of the “automatic stay” provisions of the U.S. Bankruptcy Code.  11 U.S.C. §362(a).  The stay enjoins creditors from taking action to collect debts owed by the debtor.

But how does the automatic stay affect the sale of real estate taxes in Illinois?  The real estate tax sale is actually a multi-step process.  So, the effect of bankruptcy filing depends on the status of the tax sale and whether the buyer is aware of the bankruptcy filing.

An Illinois real estate tax sale has three parts and the bankruptcy case can be filed before or after these parts.  The first part is the tax sale by the county taxing authority and the purchase by a tax buyer.  The buyer tenders money to the taxing authority.  A bankruptcy filing prior to the sale blocks the county from selling the taxes.  Any sale in violation of the automatic stay would be void.

The second part relates to the redemption period assuming the taxes were sold prior to any bankruptcy case.  A bankruptcy filing during the redemption period would not void the sale. However, a bankruptcy filing could effectively extend the redemption period if the homeowner establishes a repayment plan, like a Chapter 13 repayment plan.  The bankruptcy filing does not actually “extend” the redemption period, but it has the same effect.  The redemption period would not expire and the tax buyer would not be allowed to petition the circuit court for a tax deed during a chapter 13 repayment plan if that plan provides for the repayment of the sold taxes.

The third part of the tax sale relates to the petition of the circuit court for the issuance of a tax deed.  A bankruptcy filing after the issuance of the tax deed would not affect the homeowner’s rights because the homeowner would have already lost all legal rights to the property prior to the bankruptcy filing.  In general, a bankruptcy filing stops future action against the bankruptcy filer and preserves the status quo; a bankruptcy filing does not reverse a tax sale or the issuance of a tax deed.

But the bankruptcy court in In re Wilson, 536 B.R. 218 (Bankr. N.D.IL 2015)(Black, J.) had to decide what impact a bankruptcy filing had upon the issuance of a tax deed by an Illinois circuit court when the issuance occurred AFTER a bankruptcy filing but WITHOUT the tax buyer knowing a bankruptcy case was filed.  There, the tax buyer was never informed of the bankruptcy case until after the circuit court had issued the deed.  Both the debtor and the mortgage lender knew of the bankruptcy filing; neither notified the tax buyer.  Consequently, the tax buyer never filed a motion to “lift or remove” the automatic stay prior to petition the circuit court for the tax deed— a motion that the court would have certainly granted.

The Wilson tax buyer filed a motion to “annul” the automatic stay pursuant to 11 U.S.C. §362(d) after the buyer discovered the bankruptcy filing.  The buyer stated that the buyer had no knowledge of the bankruptcy filing prior to the tax deed issuance despite taking steps to investigate.  The court noted that it would be inequitable to punish the tax buyer who acted in good faith while helping the mortgage lender who failed repeatedly to notify the buyer of the bankruptcy filing.  The Wilson court conducted an exhaustive study of the equities between the parties before granting the tax buyer’s motion to annul the automatic stay.  The court also noted that the battle was between the tax buyer and the mortgage lender with the homeowner taking no position.

Practice Pointer:   People who file bankruptcy should make efforts to notify ALL creditors and people who hold adverse interests in any property of the bankruptcy filer.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

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How Does a Bankruptcy Filing Affect the Sale of Delinquent Real Estate Taxes?

An owner of real property receives protection from creditors immediately upon filing a bankruptcy case pursuant to 11 U.S.C. §362(a), which provides an “automatic stay” or injunction against creditors’ actions against the owner and the owner’s property.  As to real property, the automatic stay prohibits mortgage lenders from foreclosing on delinquent mortgage notes, and it prohibits governmental taxing authorities from selling any delinquent real estate taxes without leave of court.

An order granting relief from the automatic stay is typically granted in a bankruptcy case if the secured party is not receiving adequate protection, or the owner has no equity in the property and the property is not necessary for an effective reorganization. See 11 U.S.C. §362(d).

But what do taxing authorities do about delinquent taxes when a homeowner files bankruptcy?  It depends when the bankruptcy case was filed in relation to the sale of the delinquent taxes.  First, let’s assume a sale is imminent but did not occur prior to the bankruptcy filing, then let’s assume a sale occurred prior to the bankruptcy filing.

Imminent Sale:  The filing of a bankruptcy case automatically prohibits the sale of the delinquent real estate taxes.  In a Chapter 7 case, the taxing authority typically stands-down and postpones the tax sale  until after the bankruptcy case is concluded.  The taxing authority could file a motion to lift the automatic stay to allow the tax sale, but typically does not file such a motion because of the cost to do so.  A Chapter 7 case typically lasts only 100 days or so.  Thereafter, the taxing authority thereafter conducts the tax sale.

A Chapter 13 case is different because it could last 5 years.  The filing of the Chapter 13 stays the sale of the delinquent real estate taxes just like a Chapter 7 filing.  However, the owner of the real estate must make a decision whether the owner wants to retain the real property or surrender it.  If surrendering the real estate, the owner’s Chapter 13 plan should expressly provide for the surrender of the real estate pursuant to 11 U.S.C. §1325(a)(5)(C) and treat any secured creditor’s deficiency claim as an “unsecured” claim by reason of the surrender.  If retaining the real estate, then the owner’s Chapter 13 plan should provide to cure mortgage arrearage and maintain the mortgage payments, and provide for the full repayment with interest of any delinquent real estate taxes.

Post Sale: The issues are more complicated when a real estate owner files a bankruptcy case after the delinquent real estate taxes have already been sold.  Some states allow an owner to “redeem” the sold real estate taxes within a certain statutory time period.  The Bankruptcy Code allows a Chapter 7 trustee to exercise the homeowner’s redemption rights by paying the delinquent taxes (plus interest) provided the bankruptcy case was filed prior to the redemption period expiring.  Similarly, the Chapter 13 bankruptcy laws allow the home owner to repay the sold real estate taxes over the 5 year period provided the bankruptcy case was filed prior to the redemption period expiring.  Unfortunately, a homeowner cannot save real estate sold for delinquent real estate taxes by filing bankruptcy after the redemption period has expired.

Violating the Automatic Stay:  Sometimes a real estate tax buyer who properly purchased delinquent real estate taxes unknowingly violates the automatic stay by foreclosing a homeowner’s equity of redemption despite a bankruptcy filing.  Such was the case in In re McCrimmon 536 B. R. 374 (Bankr. D.MD. 2015). The tax purchaser bought the delinquent real estate taxes before the homeowner filed bankruptcy.  There was no automatic stay violation at the time of purchase because the bankruptcy case had not yet been filed.  Maryland law required the tax purchaser to give certain notice to the property owner and lienholders at least two months prior to filing an action to foreclose the right of redemption.  The tax purchaser conducted a title search and gave proper notice to the owner and known lienholders prior to filing the foreclosure action in the county court.

Later, the McCrimmon homeowner filed bankruptcy but failed to provide any notice to the real estate tax purchaser.  Subsequently, the tax purchaser filed suit in the county court and foreclosed the homeowner’s right of redemption in accordance with Maryland law.  The mortgage lender objected to the tax purchaser’s foreclosure because it violated the Bankruptcy Code’s automatic stay protections because the foreclosure occurred after the bankruptcy filing and without leave of the bankruptcy court.

The tax purchaser filed a motion to “annul” the automatic stay.  The McCrimmon court granted the tax purchaser’s motion because: (1) the tax purchaser was not noticed and had no actual or constructive knowledge of the bankruptcy filing; (2) the court would have granted a motion to lift the automatic stay had the tax purchaser filed such a motion prior to the foreclosure sale; and (3) the equities favor the tax purchaser because the financial loss to the purchaser by denying the motion to annul far outweigh the financial loss to the mortgage lender by granting the motion to annul.  Therefore, the court annulled the automatic stay so that it had no effect upon the tax purchaser’s foreclosing of the homeowner’s right of redemption.

Practice Pointer:  An individual who files bankruptcy should give notice of the bankruptcy filing to all creditors, including a real estate tax purchaser.  Creditors who violate the automatic stay protections could “annul” the stay if the equities are in their favor.  This is a factual determination.  Annulling the automatic stay would not have occurred in the McCrimmon case had the tax purchaser been given notice of the bankruptcy case and chose to ignore that notice.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

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Does a Bankruptcy Filing Stop the IRS from Levying Assets? 

Yes, filing bankruptcy immediately stops the IRS from levying assets or even threatening to levy assets while the bankruptcy case is pending.  Section 362 of the Bankruptcy Code provides that a bankruptcy filing immediately protects a taxpayer by an automatic injunction called the “automatic stay” from any act by a taxing authority to collect, assess, or recover a claim against the taxpayer that arose before the bankruptcy case was filed. 11 U.S.C. §362(a)(6). The conduct prohibited ranges from that of an informal nature, such as by telephone contact or by dunning letters, to more formal judicial and administrative proceedings.

In the IRS context, the automatic stay prohibits the IRS from sending a Notice of Intent to Levy and a Notice of Levy. However, the Bankruptcy Code does not prohibit all communications by the IRS.  Despite the fundamental importance of the automatic stay, Congress provided taxing authorities an exception to the automatic stay provision for “(A) an audit by a governmental unit to determine tax liability; (B) the issuance to the debtor by a governmental unit of a notice of tax deficiency; (C) a demand for tax returns; or (D) the making of an assessment for any tax and issuance of a notice and demand for payment of such an assessment. See 11 U.S.C. §362(b)(9).

The §362(b)(9) exception has its own limitations and is narrowly construed.  The IRS may be permitted to make an assessment and a demand for payment. However, the IRS cannot couple that demand for payment with a Notice of Levy or other collection effort, or a Notice of Intent of Levy or other threat of a collection effort, including IRS pamphlets entitled “Understanding the [IRS] Collection Process (IRS Publication 954).

The limits of a §362(b)(9) exception was addressed recently in the non-IRS case In re Gonzalez, 532 B.R. 1 (D. PR 2015). The Gonzalez court had to determine if the Treasury Department of Puerto Rico violated the automatic stay by sending a debtor a “Final Notice” regarding the taxpayer’s prepetition income tax debt. That notice also included an assertion that the law empowers the taxing authority to use collection steps like wage garnishments and asset levies. The Gonzalez court rejected the taxing authority’s argument that such communications are excepted from the automatic stay by §362(b)(9).  Instead, the Gonzalez court ruled that the threat of collection efforts is outside the creditor protection of §362(b)(9) and is an automatic stay violation of 11 U.S.C. §362(a)(6).  The tax authority’s actions were enjoined and the violation subjected the taxing authority to sanctions, costs, and attorney’s fees.

PRACTICE POINTERS: A tax professional should recommend a taxpayer seek the advice of a bankruptcy attorney whenever the IRS or other taxing authorities are threatening collections action like levies and garnishments.  The automatic stay protections afforded by the Bankruptcy Code give taxpayers breathing room to orderly address the tax collection issues jointly with the tax professional and bankruptcy attorney.  The automatic stay stops the IRS from collecting, including levies and garnishments.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

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The IRS Seized the Corporation’s Assets. Can a Corporation File Bankruptcy and Discharge Tax Debts? 

I’m often asked how a corporation can eliminate its tax debts.  Typically, the corporation has withheld taxes from its employees’ paychecks but has not tendered these “trust fund taxes” to the IRS or state taxing authority.  These withheld funds are referred to as “trust fund taxes” because the employer withheld the money “in trust” for the benefit of the IRS or other taxing authority.

An employer who is struggling financially uses the trust fund taxes as a source of hard currency, much like it would if granted a bank loan.  An employer hopes the use of the trust fund taxes would defuse a business crisis or at least keep the business afloat until brighter days (entrepreneurs always see a brighter tomorrow).  The problem is the IRS is not a lender and did not voluntarily give the employer the money —and certainly has not granted the employer authorization to use the trust fund taxes.

The IRS is typically aggressive in collecting the trust fund taxes.  The IRS can intercept tax refunds, lien, levy, seize, and exercise other collection tactics.  Seizure of the corporation’s asset could terminate the business.  For example, what would a restaurant owner do if the president arrived at the restaurant one morning to find the IRS had seized all the tables, chairs, refrigerators, freezers, etc.? Panic of course!

So what is the corporation to do?  Call its lawyer of course!  But there is only so much a lawyer can do in such an emergency.

The corporation is generally not in a position to repay the IRS the full amount of the trust fund taxes in a quick lump-sum payment so that the assets are returned.  Lawyers can contact the IRS and try to negotiate an installment agreement or an offer-in-compromise— but that takes time and the IRS would be in no hurry to relieve the taxpayer’s pressure by returning the assets.  An emergency bank loan would be nice, but that is not realistic because of the pending tax obligation and the fact that the restaurant is not operating since the IRS seized the tables, chairs, refrigerators, freezers, etc.

So bankruptcy becomes the obvious solution.  Chapter 13 is not available because the tax debt is owed by the corporation and Chapter 13 is available only to individuals.  Chapter 11 is a great option. Filing the Chapter 11 bankruptcy case would grant the corporation with the “automatic stay” protections of the US Bankruptcy Code.  The attorney would contact the IRS to negotiate a return of the assets for the company’s promise to pay adequate protections payments to the IRS going forward.  If negotiations are unsuccessful, then the court should rush to the courthouse to file an adversary proceeding to force the IRS to return the assets… again, the company would have to provide the IRS adequate protection.  But at least the company could return to regular business operations.

Some clients ask if the taxes could be discharged by filing Chapter 7 bankruptcy without the need to pay any adequate protection payment to the IRS. The answer is NO.  That strategy was tried by a convenience store operating in Senatobia, Mississippi in the case of In re Sarfani, Inc., 527 B.R. 241 (Bankr. N.D.MS 2015).  In Sarfani, the company attempted to discharge unpaid sales taxes collected from customers as “trust fund” taxes.  The court rejected the company’s attempt to discharge the taxes because Sarfani, Inc. was a corporation and Chapter 7 bankruptcy discharges are only available to individuals (human) and not corporation, partnerships, LLCs, LLPs, trusts, etc.  11 U.S.C. §727(a)(1).  So, Chapter 11 would be the best bet.

PRACTICE POINTERS: The best tax planning is advanced tax planning. Bankruptcy lawyers are frequently contacted in emergencies after the IRS collectors have struck and struck hard—shuttering a business.  The IRS can be agreeable if the company negotiates before the issue comes to a boil.  But once the IRS collectors have taken action a company would typically need court intervention and the bankruptcy protections to survive.  How long can a company survive that is shuttered?  NOT LONG!  Customers find competitors, suppliers and vendors get frightened, and employees quit and find other jobs.  Immediate Chapter 11 bankruptcy protection would be warranted.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

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How do I Sue the IRS for Taking Assets After my Taxes were Discharged in Bankruptcy?

A taxpayer can sue the IRS for collecting taxes eliminated in a Chapter 7 bankruptcy case—but not immediately.  So what are the rules and limitations?

That issue was addressed in In re Broos, 534 B.R. 358 (8th Cir. BAP 2015).  There, the taxpayer filed bankruptcy and obtained a bankruptcy discharge before the IRS levied the taxpayer’s assets and filed a Notice of Federal Tax Lien. The taxpayer filed an adversary lawsuit in the bankruptcy court and sought damages for violating the automatic stay and/or the bankruptcy discharge injunction. The IRS sought to dismiss the lawsuit because the taxpayer had failed to exhaust the “administrative remedies” before filing the lawsuit.

The Broos court agreed with the IRS. First, taxpayers can sue the IRS only to the extent the United States has waived its sovereign immunity per 26 U.S.C. §7433(a).  But, taxpayers may not bring a direct action for damages against the IRS until the taxpayer exhausts the administrative remedies provided in 26 U.S.C. §7433(d).  The Tax Code requires the taxpayer to adjudicate the issues before an administrative law judge and plead a case for damages; thus keeping the IRS out of court as much as possible.  There, the taxpayer can seek damages for the IRS’ willful violation of the bankruptcy automatic stay protections under 11 U.S.C. §362 and the bankruptcy discharge injunction under 11 U.S.C. §524.  See 26 U.S.C. §7433(e)(1).

What are the procedures for exhausting the administrative remedies?  The procedure a taxpayer must follow in order to exhaust the remedies under §7433(d) for violating the bankruptcy discharge is enumerated in 26 C.F.R. 301.7430-1 and 301.7433-2(e).  A litigant must file a written administrative claim for damages or for relief with the Chief, Local Insolvency Unit for the corresponding judicial district in which the bankruptcy petition was filed.  The claim must contain the taxpayer’s name, identification number, current address, current home and work telephone number, the location of the bankruptcy court in which the underlying bankruptcy case was filed, the case number of the bankruptcy case in which the violation occurred, a description of the violation and injuries, the dollar amount of the injuries, and the signature of the taxpayer or taxpayer’s representative.  26 C.F.R. 301.7433-2(e).  The taxpayer must then wait until the earlier of six months or the date on which the IRS has rendered a decision on the claim.

In Broos, the taxpayer failed to seek damages and administrative remedies before filing the adversary lawsuit in the bankruptcy court.  Therefore, the bankruptcy court dismissed the lawsuit against the IRS as premature.

Note that damages can never include punitive damages against the IRS for violating the automatic stay or bankruptcy discharge injunction.  Punitive damages are unavailable as a matter of law. 11 U.S.C. §106(a)(3).

Practice Pointer: Suing the IRS is very complicated.  The law forces claims to be addressed administratively within the IRS by an administrative law judge. Only afterwards can a taxpayer seek damages in the bankruptcy court for violating the Bankruptcy Code.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

Can I Sue IRS Employees for Collecting Taxes Eliminated in Bankruptcy?

IRS employees make mistakes like everybody else.  But the IRS employees have special protections that average citizens do not enjoy. So, what can a taxpayer do if the IRS wrongfully attempts to collect income taxes discharged in bankruptcy by levying assets or filing notices of federal tax liens?

That issue was discussed in In re Broos, 534 B.R. 358 (8th Cir. BAP 2015).  In Broos, the taxpayer filed bankruptcy and received a chapter 7 bankruptcy discharge long before the IRS attempted to levy the taxpayer’s assets and before the IRS filed a Notice of Federal Tax Lien.  The IRS was provided notice of the bankruptcy and presumably notice of the chapter 7 bankruptcy discharge.  Nonetheless, the IRS levied and liened.

The taxpayer filed an adversary lawsuit in the bankruptcy court and sought damages for violating the automatic stay and/or the bankruptcy discharge injunction.  The lawsuit named as party-defendants the individual IRS employees involved in the levies and liens.  The IRS opposed arguing that the employees should not be the named defendants and the IRS should be substituted as the proper party defendant.

The Broos court agreed with the IRS.  The court noted the general rule that a taxpayer may not sue the United States or any of its officers and employees without a waiver of sovereign immunity.  Congress provided such a wavier in 26 U.S.C. §7433(a) but only as to the United States and not as to its individual employees.  Individual federal employees may not be sued for actions taken in the performance of their official duties.  Any claims filed against the individual employees would be barred by sovereign immunity.  Thus, the court granted the United States leave to be substituted as the property party defendants because Congress had waived sovereign immunity as to it.

Practice Pointer: Name the United States, and not the “Internal Revenue Service,” as the proper party defendant.  Also, do sue the individual IRS employees who performed the objectionable acts because the employees are protected by sovereign immunity.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.

Can the IRS Levy against a Creditor Entitled to Receive Bankruptcy Plan Distributions?

Sometimes the IRS takes aggressive action to collect unpaid taxes. The “levy” is a common tool used by the IRS to force a third-party to help collect unpaid taxes. The levy is tendered to the third-party holding money or property of the taxpayer and demands that the third-party tender the money or property to the IRS.

In the case of In re Elrod, 523 B.R. 790 (Bank. W.D. TN 2015), the IRS sent a levy to the Chapter 13 trustee demanding that money designated by the plan to be sent to a creditor-taxpayer instead be sent to the IRS. To be clear, the IRS was attempting to collect a tax from a creditor who was otherwise eligible to receive plan distributions. The IRS was attempting to intercept the trustee’s payments and force the trustee to tender to the IRS that creditor-taxpayer’s share.

The Chapter 13 trustee objected claiming it was a violation of the automatic stay, 11 U.S.C. §362(a). The court agreed with the trustee and found that the IRS had violated the automatic stay because the property held by the trustee was “property of the bankruptcy estate” as defined by 11 U.S.C. §541(a)(1) and §1306(a). The levy was quashed.

For follow-up questions, contact attorney Robert V. Schaller by clicking here.